Bankline Oil Co. v. Commissioner of Internal Revenue

Decision Date07 June 1937
Docket NumberNo. 8294.,8294.
Citation90 F.2d 899
CourtU.S. Court of Appeals — Ninth Circuit

A. L. Weil and Martin J. Weil, both of San Francisco, Cal., for petitioner.

Robert H. Jackson, Asst. U. S. Atty. Gen., and Sewall Key, John G. Remey, and Warren Wattles, Sp. Assts. to Atty. Gen., for respondent.

Before WILBUR, MATHEWS, and HANEY, Circuit Judges.

WILBUR, Circuit Judge.

This is a petition for the review of decisions of the United States Board of Tax Appeals entered March 24, 1936, and March 28, 1936, determining a deficiency in petitioner's income taxes of $5,108.71 for the year 1927, of which $3,592.88 has been paid leaving a deficiency of $1,515.83, and a deficiency of $846.94 for the year 1930, of which $825.33 has been paid leaving a deficiency of $21.61, and that there was an overpayment of $65.59 for the year 1928. Petitioner contends that the Board of Tax Appeals should have reduced the deficiency for 1927 by the sum of $2,713.50 and should have determined that there was an overpayment for the year 1928 of $3,598.04 and for the year 1930 of $18,828.04. Petitioner seeks exemption during the taxable year 1930 of all income derived from tide lands situated in the county of Santa Barbara, Cal., which were leased to petitioner1 by the state of California for the purpose of producing oil and gas therefrom. Petitioner also claims that the Board erroneously refused to allow it deductions for the years 1927, 1928, and 1930 to which it was entitled because of depletion on its "casinghead gasoline contracts."

As to petitioner's first claim of exemption based upon its income derived from state tide lands:

The state of California holds the tide lands within its boundaries in its sovereign capacity in trust "for the people of the state that they may enjoy the navigation of the waters, carry on commerce over them and have the liberty of fishing therein free from interference of private parties." Boone v. Kingsbury, 206 Cal. 148, 183, 273 P. 797, 812. See Constitution of California, art. 15; Illinois Central R. R. Co. v. Illinois, 146 U.S. 387, 13 S.Ct. 110, 36 L.Ed. 1018, see also, Rose's U. S. Notes; Borax, Consolidated v. Los Angeles, 296 U.S. 10, 56 S.Ct. 23, 80 L.Ed. 9; Heckman v. Swett, 99 Cal. 303, 33 P. 1099; Oakland v. Buteau, 219 Cal. 745, 29 P.(2d) 177. The petitioner's lease was granted pursuant to Statutes of California, 1921, c. 303, p. 404, entitled, "An act to reserve all minerals in state lands," etc. By this act, the state has reserved the mineral deposits in all lands belonging to the state except lands acquired on a sale for delinquent taxes, unless the deed is required to be filed in the surveyor general's office.

The statute provides for the issuance of prospecting permits (§ 4). Section 5 of the act, provides that a permittee upon establishing to the satisfaction of the surveyor general that valuable deposits of oil or gas have been discovered within the limits of the land covered by the permit shall be entitled to a lease for one-fourth of the land embraced in the prospecting permit, provided that the permittee shall be granted a lease for as much as 160 acres. It is provided that "such lease shall be for a term of twenty years upon a royalty of five per centum in amount or value of the production and the annual payment in advance of a rental of one dollar per acre, the rental paid for any one year to be credited against the royalties as they accrue for that year."

Section 6 of the act (St.1921, p. 407) provides: "Until the permittee shall apply for lease to the one quarter of the permit area * * * he shall pay to the State of California twenty per centum of the gross value of all oil or gas secured by him from the lands embraced within his permit."

Section 8 of the act provides for the leasing of unappropriated deposits of oil or gas within the known geologic structure of a producing oil or gas field to the highest bidder, the leases "to be conditioned upon the payment by the lessee of such bonus as may be accepted and of such royalty as may be fixed in the lease, which shall not be less than twelve and one-half per centum in amount or value of the production, and the payment in advance of a rental of not less than one dollar per acre per annum thereafter during the continuance of the lease, the rental paid for any one year to be credited against the royalties as they accrue for that year."

Section 19 provides: "All moneys received by the surveyor general under the provisions of this act from rents, fees, bonuses and royalties accruing from the use of state school land shall be paid into the `school fund,' all other moneys received under the provisions of this act shall be deposited in the `general fund.'"

One of the purposes of the aforesaid act (Cal.St.1921, c. 303, p. 404, supra) is to give to the citizens of the state of California "an opportunity to intercept the large volumes of oil gravitating seaward to inextricable depths, and to reduce to useful purposes oil, gas and mineral deposits reposing beneath the ocean's bed." Boone v. Kingsbury, 206 Cal. 148, 181, 273 P. 797, 811, supra. It was enacted in pursuance of the policy of the state of California "with respect to the extraction of its minerals from state lands." Boone v. Kingsbury, 206 Cal. 148, at page 185, 273 P. 797, 813, supra. The legislation was upheld by the California Supreme Court against the claim that it violated the implied trust under which the state holds its tide lands because the rights granted by the leases do not interfere with such trust, and do not impair the power of succeeding Legislatures to "regulate, protect, improve, or develop the public rights of navigation and fishing." Boone v. Kingsbury, 206 Cal. 148, at page 183, 273 P. 797, 813, supra.

The federal income tax is not levied on the land so held in trust, nor upon the income of the state derived from the lease of the lands. We are unable to distinguish the situation here from the principle announced by the Supreme Court in Burnet v. Jergins Trust, 288 U.S. 508, 53 S.Ct. 439, 441, 77 L.Ed. 925, where it, in a case involving a tax upon the income derived by a lessee from city owned oil lands held that "the subject of the tax is so remote from any governmental function as to render the effect of the exaction inconsiderable as respect the activities of the city." Mr. Justice Roberts, speaking for the Supreme Court, said:

"The revenue acts do not discriminate between the respondent lessee and others similarly situated, in the imposition of the income tax. If the respondent is exempt from the exaction, the conclusion must follow, because the tax directly burdens the functions of the state acting through the city of Long Beach. Considerations which have led to the condemnation of taxes in other circumstances are here absent. The levy is not upon the property of the municipality, nor upon the income it derives from its property, is not upon the city's share of the oil recovered, the lease, or the gross income therefrom. The law measures the assessment by the net income of the respondent, whose operations are carried on in a private, and not in a public, capacity for the personal gain of its cestuis que trust."

See, also, Group No. 1 Oil Corporation v. Bass, 283 U.S. 279, 51 S.Ct. 432, 75 L. Ed. 1032.

Petitioner contends that the decision of the Supreme Court in Burnet v. Jergins Trust, supra, is inapplicable to the case at bar because the lands which were the subject-matter of the oil and gas lease in that case had been acquired by the city for the purpose of securing a water supply, and that in operating waterworks for its inhabitants a city is not exercising its governmental functions. But in Brush v. Commissioner of Internal Revenue, 57 S.Ct. 495, 500, 81 L.Ed. ___, decided by the Supreme Court March 15, 1937, the Supreme Court held that "the acquisition and distribution of a supply of water for the needs of the the modern city involve the exercise of essential governmental functions."

On the argument the petitioner attempted to distinguish the situation in the case at bar from that involved in Burnet v. Jergins Trust, supra, on the ground that there the court was dealing with the functions of a municipality of the state while here the state executed the lease in question. This distinction does not seem to be recognized by the authorities which hold that the city, while exercising its governmental functions, is exercising a part of the sovereign power of the state. If so, there can be no distinction in principle between such functions as exercised by the city and by the state. It has been held by the Supreme Court that where the state operates in a proprietary rather than in a governmental capacity its activities are subject to taxation by the federal government. South Carolina v. United States, 199 U.S. 437, 26 S.Ct. 110, 50 L.Ed. 261, 4 Ann.Cas. 737. It has recently been held in United States v. California, 297 U.S. 175, 56 S.Ct. 421, 80 L.Ed. 567, that where a state is operating in its proprietary, rather than its governmental, capacity it can be penalized by the federal government for violation of federal statute.

We do not place our decision upon the proposition that the state in extracting oil from lands held by it by virtue of sovereignty is acting in a proprietary capacity, particularly where the revenue derived therefrom is utilized in carrying on the governmental functions of the state. The general fund of the state "consists of moneys received into the treasury and not specially appropriated to any other fund." Cal. Political Code § 454. Moneys are disbursed from this fund for public purposes in pursuance of appropriations made by the state Legislature. We do not undertake to say whether or not the state is acting in a governmental or proprietary capacity in thus utilizing its state lands. What we do hold is that the tenant who had procured a lease upon such lands for his...

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